Monex: Announcement of tapering in November now most likely

Monex: Announcement of tapering in November now most likely

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Jerome Powell holds off in Jackson Hole speech. An announcement of tapering in November now most likely. Below is a commentary in English by Simon Harvey, Senior FX Market Analyst at Monex Europe on Fed President Jerome Powell's Jackson Hole speech.

The Jackson Hole symposium held high expectations for market participants until about a week ago, when the spread of COVID-19 in the US due to the Delta variant added a new level of uncertainty to the economic outlook and shifted expectations of the Fed announcing its tapering back by a meeting or two.

Despite some FOMC members casting hawkish tones to the media over the past 48 hours, Jerome Powell pushed back expectations of policy normalisation in his speech today by not only refraining from announcing the timing of the tapering but also stating that tapering doesn’t signal the timeline for rate hikes.

While this largely met the market consensus, that a formal tapering announcement wouldn’t be forthcoming at today’s event, the market reaction was still sizable, suggesting there was still some risk of earlier normalisation baked into some financial instruments.

While the level of caution taken by Powell in today’s remarks does look like a function of the COVID-19 outbreak, we believe today’s announcement reinforces our view that the formal tapering signal won’t occur until November’s meeting at the earliest.

This is because any further progress made in the labour market in August prior to September’s Fed meeting is likely to be offset by the still elevated economic uncertainty due to higher COVID-19 cases, while the emphasis placed on the link between quantitative tightening and the timeline for rate hikes suggests that the Fed will try to separate the two mechanisms for policy tightening.

To continue sending this message, the Fed is more likely to announce the tapering timeline at a meeting which doesn’t include fresh interest rate projections. Additionally, with Chair Powell also favouring the start of the tapering process this year, November’s meeting now looks like the likeliest option for the announcement, Delta variant permitting.

In the FX space, the dollar’s downturn occurred around 5 minutes before Powell’s speech was released, with the greenback’s losses extending once headlines came in and front-end yields plummeted. More accommodative Fed policy looks to be on the horizon as long as COVID-19 continues to linger over the US economic recovery, and the classic adage of 'bad news is good news' rings out for markets amid this environment.

We don’t expect to see an inflection point to this narrative until either new cases rise to a point where risk-off trading reignites or the US economic recovery forces the Fed’s hand before November. In this regard, the risk environment is sitting in a very fragile sweet spot for the time being.